State Farm Accused of Conspiring with Xactware

A Federal suit has been brought by a couple in Louisiana who allege that State Farm conspired with a software firm named Xactware to low-ball repair estimates, and consequently underpay claims caused by Hurricane Katrina.

You can find an article here from the New Orleans Times-Picayune.

After reading the article I am left a little confused. The suit names State Farm and Xactware, but also alleges that State Farm used numbers for replacement costs and repairs that were lower than the numbers Xactware provided.

What is especially interesting to me is the argument against using Xactware. According to the article Xactware is used by 16 of the top 20 insurers to help adjust claims. The law-suit alleges that Xactware conspires with the insurers to develop lower pricing for repairs, and that this is a direct result of insurers being exempted from much of Federal Anti-Trust legislation.

First of all, the reasoning behind these exemptions is to allow for competition by smaller companies. Companies such as State Farm or Allstate handle millions of claims each year, and have large volumes of data regarding claims payments. However, a smaller or regional company might not have the best data. Therefore, allowing these companies to share data with each other through Xactware or some other entity, allows for the "small-guy" to have access to the same information. It also benefits the larger companies in seeing that they are paying similar amounts for services that other insurers are paying for. In other words, in theory, this helps everyone, including consumers who benefit from more companies being able to compete in the market-place.

Now, for what really puzzles me. Many of these companies also use Xactware to develop the estimated replacement cost of dwellings when initially writing coverage on homes. This feature presumably uses the same data in order to develop what the total replacement cost of a home would be should a total loss occur, and make sure that an insured is carrying the proper coverage.

I am guessing that if you ask any insurance agent about "replacement cost estimates" for homeowner's policies that you will hear a groan. It is a constant source of mis-understandings, and one of the most difficult concepts to help a consumer to understand.

In my experience the estimates for replacement cost developed by Xactware are pretty similar to actual construction costs when comparing what someone paid for a home that was recently built. This leads me to believe that Xactware is pretty accurate in these estimates.

The problem comes when a home is not brand new. When a home is 10, or 20 or 50 years old, the market value will typically be quite a bit lower than replacement cost. A 1500 square foot home built in 1980 might sell at $75 per square foot in a particular market, while construction costs for new construction might run $95 per square foot in the same market. Keeping this example pretty simplistic, and ignoring the value of the land, this leads to a difference of $30,000 between "market value" or what a customer paid for the property and "replacement cost" or what it would take to replace it.

Most customers are able to understand this after an explanation, however, many believe that this is just a way for the insurer to "jack up" their premium. The see that they are paying $112,500 for a home, and the insurer wants to cover it for $132,500 thereby increasing their premium, and paying for coverage they don't feel they need. After all they are only investing $112,500. When it comes to paying the premium, the customer (somewhat understandably) wants to pay the bare minimum.

So, this becomes interesting, that when a policy is written, there is conflict that the insurer, through the use of Xactware is inflating costs, and over-charging. However, when a claim is filed, the same insurer and Xactware are accused of low-balling estimates. The insurer and Xactware will tell you that they use the same data for both estimates.

On the surface, it seems like no matter what the insurer does they are accused of taking advantage of the customer.